Apple Computer, Inc. Fiscal Year 1999 Briefing
Sources: Apple Computer Inc. - 1999 Annual Report
Executive Summary
This document provides a comprehensive analysis of Apple Computer, Inc.’s performance, strategy, and market position as detailed in its Form 10-K for the fiscal year ended September 25, 1999. The period marked a significant financial turnaround, characterized by a return to substantial profitability and a dramatic surge in product shipments. This success was overwhelmingly driven by the consumer-focused iMac, which revitalized the brand and renewed interest from third-party software developers.
However, this unit growth did not translate into commensurate revenue gains, with net sales increasing by only 3% against a 25% rise in Macintosh unit sales. This disparity highlights the intense industry-wide pricing pressure and a strategic shift in product mix toward lower-priced consumer systems.
Operationally, the company realized the full benefits of a multi-year restructuring effort. Gross margins improved significantly to 28%, a direct result of enhanced manufacturing efficiencies, disciplined inventory management, and a simplified product line. The company’s financial health strengthened considerably, with cash and short-term investments growing 40% to $3.2 billion and significant gains realized from strategic equity investments.
Despite the positive momentum, the company identified substantial risks. Critical dependencies on single-source component suppliers, exemplified by a costly PowerPC G4 processor shortage, pose a significant threat to production. The upcoming transition to the new Mac OS X operating system represents a pivotal but uncertain strategic move, with its success contingent on market acceptance and developer support. The competitive landscape remains intensely challenging, dominated by the Windows platform, compelling Apple to rely on its ability to maintain a lead in design and functional innovation.
Detailed Analysis
I. Financial Performance and Turnaround
Fiscal year 1999 solidified Apple’s return to profitability, driven by strong unit sales and improved operational efficiency. Net income rose 95% to $601 million, a stark contrast to the $1.045 billion loss recorded in 1997.
Key Financial Results (1997-1999) (In millions, except per share amounts)
Unit Sales Growth vs. Net Sales Stagnation
A central theme of fiscal 1999 was the divergence between unit sales and revenue growth.
Unit Sales: Macintosh CPU unit sales surged by 25%, driven primarily by the success of the iMac. The company sold approximately 1.8 million iMac units, a 68% increase over sales of comparable products in 1998.
Net Sales: Despite this volume, net sales increased by only 3% to $6.134 billion. This was primarily due to two factors:
Decline in Average Revenue: The average revenue per Macintosh system fell 17% from $2,095 in 1998 to $1,739 in 1999, reflecting industry-wide pricing trends.
Shift in Product Mix: The lower-priced iMac and its predecessor products comprised 52% of total unit sales in 1999, up from 39% in 1998.
Supply Constraints: Net sales in the fourth quarter were negatively impacted by an estimated $200 million due to lower-than-planned deliveries of PowerPC G4 processors from Motorola.
Macintosh Unit Sales by Product Line (in thousands)
(a) Figures for 1998 and 1997 include previous consumer and education-oriented products.
II. Strategic Restructuring and Operational Efficiency
The company’s improved profitability is largely attributable to the completion of a restructuring plan initiated in 1996. This plan focused on reducing the cost structure, improving competitiveness, and simplifying operations.
Restructuring Actions (1996-1998):
Terminated approximately 4,200 full-time employees.
Closed facilities, canceled leases, and wrote down assets to be sold.
Canceled contracts for technologies not critical to the core business strategy.
Termination of Mac OS Licensing: In 1997, the company determined that the costs of its Mac OS licensing program to “Clone Vendors” outweighed the benefits. It discontinued the program and acquired certain assets of Power Computing Corporation (PCC), a prominent clone vendor, for approximately $110 million.
Improved Gross Margins: Gross margin as a percentage of net sales rose to 28% in 1999, up from 25% in 1998 and 19% in 1997. Key contributing factors included:
Declines in the cost of key components.
Selective outsourcing of final product assembly.
Improved product design leading to lower manufacturing and warranty costs.
More efficient distribution models and inventory management.
Inventory Management: The company achieved dramatic improvements in managing its inventory, reducing financial exposure and obsolescence risk.
III. Product Strategy and Market Position
The company’s strategy revolved around simplifying its product line to focus on key markets with innovative hardware and a clear software roadmap.
Principal Hardware Products
Power Macintosh G4: High-performance line targeting business and professional users, introduced in August 1999.
PowerBook G3: Portable line designed for professionals and advanced personal users.
iMac: The cornerstone of the consumer and education strategy. A redesigned line was introduced in October 1999 with iMac, iMac DV (Digital Video), and iMac DV Special Edition models featuring FireWire and iMovie software.
iBook: Introduced in July 1999 as the “iMac to Go,” targeting the portable needs of education and consumer users with features like optional AirPort wireless networking.
Product Simplification: As part of its restructuring, the company eliminated its Apple-branded printers, MessagePad, and eMate product lines to focus on products “perceived as critical to the Company’s future success.”
Principal Software Products
Mac OS 9: The current version of the operating system, released in October 1999, featuring the Sherlock 2 search engine and over 50 new features.
Mac OS X (Roadmap): The company plans to introduce the client version of Mac OS X, a new operating system based on technologies from Apple and its 1997 acquisition of NeXT Software, Inc.
Mac OS X Server: Introduced in March 1999, this server OS combines UNIX strength with Macintosh simplicity, based on Mach 2.5 and BSD 4.4 technologies.
Digital Video Software: Introduced Final Cut Pro for professional video authoring and iMovie for consumer/education movie creation.
Application Software: The portfolio includes AppleWorks 5 and products from its wholly-owned subsidiary, FileMaker Corporation.
Markets and Distribution
Core Markets: The company focuses on education, creative, consumer, and business customers. The United States is its largest single market, accounting for approximately 55% of net sales.
Distribution Overhaul: The company significantly revised its distribution model, reducing the number of distributors and resellers, decreasing price protection and stock return privileges, and expanding direct sales through its online store.
IV. Key Risks and Dependencies
The 10-K outlines several significant risks that could affect future results.
Supply Chain Vulnerability: The company is highly dependent on single or limited sources for critical components.
Key Suppliers: IBM and Motorola are the sole suppliers of the PowerPC microprocessor. Other key single-source suppliers include ATI, Canon, LG, Philips, and Samsung, among others.
G4 Shortage: A shortage of PowerPC G4 processors from Motorola in Q4 1999 directly reduced net sales by an estimated $200 million.
External Events: Production at PowerBook and iBook vendors was interrupted by the September 1999 earthquake in Taiwan.
Intense Competition: The personal computer industry is described as “highly competitive” and characterized by “aggressive pricing practices.” The market is dominated by makers of computers using Microsoft Windows. Apple’s future depends on its “ability to continue to develop improvements to the Macintosh platform in order to maintain perceived design and functional advantages over competing platforms.”
Product Transition Risk (Mac OS X): The planned introduction of Mac OS X is a major strategic undertaking. The document notes it is “uncertain whether Mac OS X will gain developer support and market acceptance.” The inability to deliver a substantially backward-compatible OS in a timely manner could adversely affect sales.
Third-Party Developer Support: While developer interest was renewed following the iMac’s launch (approximately 5,000 new or revised Mac titles announced since May 1998), maintaining this support is critical.
Microsoft Agreement: A five-year agreement from August 1997 ensures Microsoft will make future versions of Microsoft Office and Internet Explorer for the Mac OS. In return, Apple bundles Internet Explorer as the default browser. This relationship is for a limited term and does not cover all areas where the companies compete.
V. Liquidity and Strategic Investments
Apple ended fiscal 1999 in a robust financial position, providing capital for operations, shareholder returns, and strategic initiatives.
Strong Liquidity:
Cash, cash equivalents, and short-term investments increased by $926 million (40%) to $3.226 billion.
Cash flow from operations was $798 million.
A $500 million stock repurchase plan was authorized in July 1999, with 1.25 million shares repurchased for $75 million by fiscal year-end.
$661 million in convertible subordinated notes were converted to common stock, reducing long-term debt and future interest expense.
Significant Long-Term Investments:
ARM Holdings plc: The company sold approximately 32.6 million shares of ARM stock during fiscal 1999 for a pre-tax gain of $230 million. As of September 25, 1999, its remaining 16 million shares were valued at $226 million.
Samsung Electronics Co., Ltd: Invested $100 million in three-year unsecured bonds to assist in expanding Samsung’s TFT-LCD flat-panel display production capacity.
Akamai Technologies, Inc.: Invested $12.5 million in convertible preferred stock in June 1999. Following Akamai’s IPO in October 1999, this investment was valued at approximately $1.2 billion as of December 17, 1999.
